Foreign Exchange Controls in a Black Market Economy

An investigation of the impact of foreign exchange controls in a black market economy is undertaken within the context of a choice-theoretic cash-in-advance general equilibrium model. While such controls may improve a 'distortion-free ' economy's trade balance and balance of payments they are found to increase the domestic price of imports and lower the country's welfare. The ramifications of black market for economic welfare turn out to be ambiguous, depending crucially on the government's reaction to the leakage of foreign exchange into the economy via illegal activity. 1